Brokers Underwhelmed As NAB Updates IT

This story features NATIONAL AUSTRALIA BANK LIMITED, and other companies. For more info SHARE ANALYSIS: NAB

-IT strategy on track
-But costs still feature strongly
-Implementation risks remain
-Revenue growth challenging
 

By Eva Brocklehurst

National Australia Bank ((NAB)) has updated on its strategy regarding renewing and optimising the bank's IT platform. Brokers largely welcomed the update, but were not effusive. Overhaul of IT services has been going on for some years and across all major banks. The investment is considerable, but necessary, as the complexities of dated IT systems add significantly to operating expenses. Most of NAB's ground work has been done but, as Deutsche Bank warns, there's another five years to go, hence a lot of risk.

Key takeaways include a focus on simplifying the system and aligning with customers. What appealed most to brokers was some measurable targets, such as reducing the number of core banking products to around 100 from 237, lifting branch sales productivity by 30% and increasing the amount of time business banking staff spend in front of customers. Gross cost savings by FY17 are expected to amount to $800 million. Management is being reshuffled with a couple of departures and some divisions are being merged under a bigger umbrella. Although all Australian major banks have outlined cost management agenda, NAB is the first to deliver specific dollar value targets to the market and, for JP Morgan, this is arguably the most comprehensive long-term guide to delivering low-single-digit cost growth on a sustainable basis.

Benefits from the IT strategy should support the positive aspects in holding NAB shares, according to BA-Merrill Lynch. The bank is increasing market share, is positioned for a recovery in business loan growth and has delivered sound cost control. Deutsche Bank finds the  plans reasonable, given the increasing importance of electronic banking and the need to run high quality systems, which can be updated frequently without system downtime. In the end, the investment is expensive and pursued to stay competitive, rather for real strategic growth. What Credit Suisse took as a positive included the commitment to book restructuring implementation costs through cash earnings but the analysts didn't like near-term growth challenges associated with those implementation costs. For JP Morgan it is plain. In a low growth environment, focusing on expenses is a necessity, not an opportunity.

The volume of savings disappointed brokers and the bank did not articulate on the revenue benefit to the detail expected. UBS was disappointed with a net savings of $540m, which comes after taking out the amortisation and depreciation expenses that are expected to increase by $260m. This disappointment was aggravated by overly optimistic press coverage ahead of the briefing, as the numbers being flicked around were much higher. A focus on costs was not surprising to UBS, which expects a low credit growth environment will persist for longer than the market generally expects. The implication is that the revenue outlook will be more challenging in the next 3-5 years. OK, the broker notes this is a pressure all banks sustain, not just NAB.

NAB started to modernise its systems in 2008 after an audit revealed there was no vendor offering a fully integrated banking IT system. NAB chose Oracle as an IT partner. The overhaul relies on software from Oracle, IT support services from IBM, to which data services will be outsourced, and telecommunications and networking from Telstra ((TLS)). CIMB notes NAB's IT project is more comprehensive than its peers and includes an overhaul of the core banking system. NAB's total investment spend will be in the $1.0bn-1.3bn range from FY13-FY17, slightly higher than the $1.07bn average in FY10-12. 

Current customer and product segmenting is similar to the bank's peers but this structure will shift to a three-level model after April. The previous business units will be removed from product ownership and processing roles to focus on sales and servicing. Business Banking, NAB Wealth and Personal Banking units will buy products and funding from an enlarged Products and Markets division, which will buy processing and data services from the expanded Enterprise Services and Transformation function. UK Banking and NZ Banking remain unchanged.

Merrills takes a conservative tack, believing the good news is already factored into the share price. The sector's base cost growth trajectory is around 4% and the broker already has NAB delivering well below this. As a result the broker's recommendation remains Sell, the only one on the FNArena database. Merrills remains wary of the challenges faced in the UK, asset quality concerns and strategy execution risk. Citi downgraded the stock to Hold from Buy on the basis of the rally ahead of the update. Macquarie also found the stock had run hard and stuck to a Hold rating. Hold ratings from UBS and Credit Suisse take the number on the database to four.

Deutsche Bank finds it hard to differentiate NAB on the basis of the IT strategy but believes the discount to peers is too high and retains a Buy rating. CIMB finds costs management has been the strength in recent results but this may be under pressure in FY13 from higher than expected IT implementation costs. As a result the broker has made slight downgrades to earnings estimates, driven purely by a slightly higher cost profile. Nevertheless, the stock is CIMB's preferred exposure in the major banks and the broker has a Buy rating. The third Buy rating on the database is JP Morgan. NAB's dividend yield is 6% based on FY13 forecasts. The consensus target price is $29.34, showing 4.8% downside to the latest share price.
 

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